Jeetay’s Annual Letter 2004-2005

Dear friends,

Our second yearly audited statements are as follows:

The above numbers are the average returns on portfolios that were there at the beginning of the each quarter. * These form part of our official statistics.

However we believe that the returns from the portfolios that were there from the beginning of the year and held through the year are more representative of our annual performance. Those numbers are as follows:

Against an extraordinarily bullish market, our performance is below our expectations. We made the cardinal mistake in the first two quarters of attempting to time the market and thus our allocations to equity, with the benefit of hindsight, were nowhere near where they should have been.  There is a saying that “Ships are safest in the port, but that is not where they should be.”

Our outperformance in the last two quarters, in spite of a very modest exposure to equities, could not make up for the underperformance in the first two quarters. Our only consolation is that returns were delivered with far less risk than the market and that our stock picks handsomely outperformed the market.

We did this by not compromising on the price we paid and thus we bought stocks with a large margin of safety between price and value. We attempted to find catalysts that could close this gap quickly.

Our primary focus is on conservation of capital which is a function of patience and discipline. Whilst many investors are blinded by potential returns, we keep both our eyes open for potential risks. We are neither optimists not pessimists but realists and will take risks when the valuations and the investment odds are in our favor. An ascent in the market means a descent in future returns, a point often forgotten when gates of optimism lull investors into thinking that the future will look like the immediate past.

We also remembered the wisdom of the ancient Hellenistic and Roman philosophers from whom investors can learn a lot.

Heraclitus claimed that everything is in a state of flux or change. He believed that dynamism between opposites was the dominant force and the eternal condition of the universe. He wrote: “God is day and night, winter and summer, war and peace, fullness and hunger.” (If he had observed the stock markets, Heraclitus would surely have added “bullishness and bearishness”.) He maintained that the universal tension between opposites ensures that change is continual and that everything is in a state of flux. Permanence does not exist in the universe, only the permanent condition of change.

Socrates claimed that the only thing he was sure of was his own ignorance. He stated “The only thing that I know is that I know nothing.” Remembering this statement is a sure formula for humility and curiosity, both of which are the hallmarks of successful investors. It is through the influence of Socrates that philosophy developed into the modern discipline of continuous critical reflection. From Socrates, investors can learn that the greatest danger is the suspension of critical thought.

Much more than any other philosopher before him, Aristotle made much of observation and detailed classification of data in his studies. Thus he was considered as the father of empirical science and the scientific method. Unlike his predecessor Plato, Aristotle conducted his investigations by considering the opinions of both experts and lay people, before detailing his own arguments, assuming that some truth was to be found in commonly held ideas. Investors should remember this when investigating companies and engaging in what Phil Fisher calls “Scuttlebutt.”

The Roman politician, lawyer and orator Cicero coined such philosophical terms that are in common use today – ‘a priori’ (‘prior to experience’), ‘a posteriori’ (‘derived from experience’) and ‘reductio ad absurdum’ (‘reduction to absurdity’). These terms also set the stage for philosophical debate for instance between the empiricists and the rationalists over whether there is such a thing as a priori knowledge which is what the rationalists maintained or whether all knowledge is derived from experience i.e. a posteriori. Investing is both art and science because it combines a priori knowledge with a posteriori.

The great Roman sceptic Sextus Empericus who wrote the monumental eleven volume work “Arguments against the Dogmatists and Mathematicians” and the “Outlines of Scepticism” offered a number of sceptical arguments to fortify his claim that for any proposition its contradictory can be asserted with equal justification. According to him, because of the logical gap between reality and appearance, there was no way of proving that things are really one way rather than the other. For any investment case, bearish and bullish arguments can be mustered with equal ease and the investor must be naturally sceptical of any investment case made to him.

Some case examples:

As a rule we don’t publicly disclose names of companies. However, to illustrate our investment methodology very briefly, the following are some case studies of companies we invested in the last one year.

1. We invested in a Mumbai tabloid where the dominant newspaper had taken what we believed was a strategic stake of 7% as one of the moves to counter competition from two large players who were entering the Mumbai market. We believed there was a large probability of a takeover at a strategic valuation which could have been higher than the market price. That is not the way it worked out, but we did exit with a substantial return.

2. We invested in the bonds of a quasi - state government organization which had fallen sharply in price due to fears of an early redemption although there was no call option in the bonds. The State Government attempted to insert that clause due to a sharp fall in interest rates, but we believed that there was a low probability of that move passing legal muster. The bonds had a much higher expected value than the price at which we bought them. The bonds today trade at the price they were at before the move by the State Government.

3. We invested in the Indian subsidiary of a US based company renowned for its innovation and large product range. It was trading on a price/sales multiple of 1.5 times its FY05 (December year end) sales whereas globally its band is between 1.75 to 2.5. Furthermore management in a presentation in New York had projected India sales to grow at 40%/annum compounded. A discounted cash flow valuation with more conservative growth numbers led to a number far higher than the price the company was trading at. Naturally we took advantage of the price Mr. Market was offering us the shares at.

4. We invested in a company that was restructuring its operations and where the combined asset values of its cement and zinc divisions were substantially higher than the enterprise value minus debt. We believe that the management is taking active steps to increase the earnings commensurate with the underlying asset value.

We will continue to look at every level of the market for companies whose securities are trading at a minimum of a 40% discount to their conservatively calculated fair values. If we do not find them, we will not invest even at the cost of large underperformance. We will not take the risk of a permanent loss of capital to make our quarterly numbers look good. We are prepared for quotational losses which are temporary in nature but not permanent losses that can destroy many years of compounding.

We have joined hands with like-minded partners in floating an India fund based in Mauritius for non-Indians. We will keep you posted of the details as soon as the fund is operational. Should you have any friends abroad, we would appreciate your referrals.

We have an active PMS (Portfolio Management Scheme). Should you be interested in knowing more about our schemes, please contact us at:

Tel no: 0091-22-22181985 / 22181986

Email: chetan@jeetay.com

Chetan Parikh              

Director